On 11 March 2014, the European Central Bank (ECB) published the Asset Quality Review (AQR)* – Phase 2 Manual (below).

The publication of the AQR manual is a significant development in the AQR process which is expected to be completed in August 2014.

FEE actions

Following the publication of the AQR manual, FEE has performed a high level review of the manual in order to assess whether the main points raised in the FEE letter to ECB (below) have been addressed by ECB.

From a high level review of the AQR manual, it seems that the AQR manual (“manual”) addresses FEE’s comments regarding the “conservative application of the IFRS”.

The manual states clearly and explicitly that its purpose is not to impose accounting policies or to interpret IFRSs. Instead it provides guidance on the use of IFRSs for this specific exercise. With reference to IFRSs, the manual includes detailed guidance in respect of the valuation of and the impairment assessment of credit exposures.

In addition, the manual provides guidance on the application of sampling and the projection of the results of the AQR, which is based on International Standards on Auditing (ISAs) 530-Sampling.

The manual also provides guidance on the valuation of collaterals for the purpose of the AQR.

Furthermore, the manual provides guidance on the valuation of fair value exposures using Level 3 input (as defined in IFRS 13 – Fair Value). It includes specific examples and extensive guidance on how a bank should value such exposures which is more detailed than the guidance of IFRS 13.

Finally, the manual provides guidance on how some of the findings of the AQR might be reflected in the financial statements (without any intention to interpret accounting treatments). It refers to three examples on what can be reflected in the bank’s financial statements (page 256 of the manual):

• Corrections to specific provisions for individually impaired credit facilities that were sampled in the file review;
• Corrections to specific provisions for collectively impaired credit facilities, where the bank’s collective provisioning model is considered by the National Competent Authority (NCA) Bank Team as missing crucial aspects required in accounting rules (e.g. discounting based on effective interest rate);
• Creation of a credit valuation adjustment (CVA) for derivatives.

On the other hand the AQR manual does not include any reference to a timely and transparent communication between the NCA, the banks’ management and the banks’ auditors.

As we have already communicated to ECB, since the AQR is unlikely to be completed before the financial statements are published, ongoing communication would enable management and auditors to reflect any findings of the AQR in the financial statements as soon as possible.

Request for knowledge sharing

In performing the assessment, the ECB will collaborate with the relevant national competent authorities and will seek the support of independent third parties. The ECB has no institutional experience with banking supervision and has limited staff resources. It is therefore expected that the ECB will heavily rely on external expertise and manpower. In case they will seek your assistance in this regard, it would be incredibly helpful if you could notify us. Sharing information and experience will increase FEE’s ability to support the European profession regarding this important subject.

For additional information, please see the relevant ECB Note and to press release (below).

* (According to the latest information from ECB the number of banks subject to the AQR has increased to 128 (including 124 banking groups), which have €3.72 trillion risk weighted assets (RWA) (58% of total RWA across banks).

Related files:

 FEE Alert, 30 January 2014

 FEE Letter to the ECB, 30 January 2014

Related links:

ECB AQR Phase 2 Manual, 11 March 2014

ECB Press Release, 23 October 2013

ECB Note Comprehensive Assessment, October 2013